During the campaign, including in one of the debates, Trump blamed the central bank for the economy’s ills. He has complained Yellen has held rates too low and was politically biased. He has revealed a preference for a gold standard and advisers have suggested other ways to take away the bank’s independence.

Trump objects to the Fed’s regulation of financial institutions, saying the rules are hurting growth.

But yesterday in her quiet way, Yellen fought back.

She made a strong case in favour of bank independence. And she took a stand against Trump’s promise of massive deregulation.

For the stability of the U.S. economy that is exactly what she should be doing, according to central banking historian Sebastian Mallaby, author of a recent book on former Fed chairman Alan Greenspan titled The Man Who Knew.

He says Yellen must follow in the footsteps of Greenspan to defend bank independence.

Punching noses

“He came into office at a time when it was normal for politicians to beat up the Fed. And he beat up the politicians,” said Mallaby in an interview on CBC’s On the Money. “When they punched him on the nose he punched them twice. I think that’s what Janet Yellen and the Fed has to study, that model.”

There wasn’t much punching in Yellen’s testimony, but in her own measured way, the latest Fed chair showed she wasn’t intending to be pushed around, not least of all on her commitment to raise interest rates.

Asked if the uncertainty over Trump’s policies warranted a delay in rate hikes until January, Yellen said that even continued confusion was unlikely to alter the plans of the rate-setting Federal Open Markets Committee.

Uncertainty to continue

“My guess is that uncertainty about these matters will last for some considerable time,” replied Yellen. “The committee has said for a long time that gradual increases in the federal funds rate are likely to be appropriate to promote our objectives.”

Mallaby said Yellen should go even further to show the president-elect who’s the boss of monetary policy, raising rates by half a percentage point rather than a quarter next month, or at least hinting very strongly of bigger hikes ahead.

“I think the danger is that interest rates needed to be lifted at the next meeting, and now you have Trump coming in with what is basically a pretty inflationary economic policy,” says Mallaby. “And so the Fed needs to respond to that, and I think it needs to signal very clearly that it’s not going to be intimidated.”

During the election, Trump accused Yellen of holding interest rates down to favour the Democrats, implying that as president he might try to interfere with central bank independence in a way some other world leaders do. (Stevo Vasiljevic/Reuters)

Rather than being aggressive, Yellen’s technique was to be stubbornly analytical and deliberate in her implied criticism of Trump’s policy.

That was certainly the case in her response to the idea of deregulation, including the removal or watering down of the Dodd-Frank rules that were imposed to prevent a repeat of the meltdown and taxpayer bailout of the banking system in 2008.

Critics of financial regulation describe the rules as restrictive, forcing banks into a straitjacket of red tape.

Brewing conflict

While cutting stress tests and regulation could reduce banking costs and reignite short-term growth, Yellen publicly worried about the long-term damage to the economy if deregulation creates another “devastating financial crisis” like the last one. It sounds like a conflict brewing.

While Yellen indicated her support for Congress and the president to make budgetary decisions, she warned that the U.S. economy was at a tipping point, and that too much stimulation could launch an inflationary spiral. That would only be worse if the administration tries to wrench independence away from the central bank.

“There is clear evidence of better outcomes in countries where central banks can take the long view, are not subject to short-term political pressures and sometimes central banks need to do things that are not immediately popular for the health of the economy,” Yellen testified.

“The story in every country that’s experienced very high or even hyper-inflation is one where a central bank has been forced to follow the dictates of a government that has compromised its independence.”